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Sting in the tail

The outlook for summer gas has been see-sawing in the last couple of months, as the weather has pushed expected end-March storage from around 1.7 tcf at the start of the year to 2.3 tcf in February and now back down to around 2.0 tcf. A final sting in the tail of winter, with biting cold in the northern states, buoyed the price curve that was otherwise trending further downwards.

On the supply side, while not that much of a surprise, given the expected lags between additional drilling and increases in production, lower-48 output levels have remained stubbornly below 71 bcf/d. While this marks slower output expansion than we were expecting, there are signs that production is moving upwards, with March output up by around 0.5 bcf/d on January levels.

Drilling in the predominantly gas plays improved markedly in Q4 16 but continues to see much slower improvement over Q1 17. Rigs in the Northeast moved up from a low of 36 in August 2016 and are now back at 62. This is up on the 41 rigs seen in March last year. On top of that, rig efficiencies are much higher than they were back in 2015 and the region is still focusing heavily on completions. Regional DUC inventories have been revised upwards to 758, so there now appear to be even more lower-cost completions available.

The slower, but steady, gains in production mean we still see 0.5 bcf/d y/y increases in dry gas production in 2017, down on previous forecasts of a 0.9 bcf/d increase. We now only expect positive y/y growth from June onwards. We note that the new forecast are largely in line with producer guidance levels of expected 2017 production increases (see our North America Insight, Q4 16 results and 2017 guidance, 22 March 2017).

Turning to exports, Sabine Pass Train 3 has already started commissioning and is expected to begin commercial deliveries shortly. With three trains online, LNG exports of around 2.1 bcf/d are already being seen and will likely persist until Train 4 comes online, scheduled for November. Compared to Q4 16 guidance, Train 3 is three months early and Train 4 has been pushed back by three months. This takes the outlook for average 2017 LNG exports up to a healthy 1.45 bcf/d y/y increase, bringing forward some volumes while pushing others later into the year.

While LNG exports are running a bit ahead of schedule, exports to Mexico are showing evidence of slowing growth. In March, exports to Mexico appear to be coming in around the same level as in February, which ends a trend of m/m increases and is slower y/y growth than seen in previous months. March is a shoulder season, but indications are that exports will only grow by around 0.1 bcf/d which is well below expectations. Still, given the expected completions of pipelines, we expect to see exports to Mexico increase by some 0.7 bcf/d over the current year.

Our 2017 price forecasts are slightly up on last month, with Q2 17 and Q3 17 expected to come in at 2.85 $/mmbtu, up from the previous forecasts of an average of 2.75 $/mmbtu. The revision reflects our expectations that less gas will be available for power (bullish) while coal prices are lower by around 9% m/m (bearish). As such, summer prices are likely to stay in the fuel switch trigger range of 2.6 $/mmbtu to 3.2 $/mmbtu, with resistance to extremes on either side.

The biggest potential upside risk is if even more gas is used for injections in storage, as this would need prices to remain closer to 3.2 $/mmbtu. We forecast end-October storage at a relatively light 3.6 tcf, so greater crowding out of gas from power cannot be discounted.